EXAM STUDY MATERIALS July 30, 2024 11:26 AM TAX4001 Exam 1 Questions With Correct Answers How are realized income, gross income, and taxable income similar, and how are they different? - answer✔✔Realized income is more broadly defined than gross income which is more broadly defined than taxable income. Gross income include s all realized income that taxpayers are not allowed to exclude from gross income or are not permitted to defer to a later year. Consequently, gross income is the income that taxpayers actually report on their tax returns and pay taxes on. In the tax formu la, taxable income is gross income minus allowable deductions for and from AGI. Taxable income is the base used to compute the tax due before applicable credits. However, any income included in gross income can be considered "taxable" income because gross income is income that is taxable and causes an increase in the taxes that a taxpayer is required to pay (gross income increases taxable income). Are taxpayers required to include all realized income in gross income? Explain. - answer✔✔No. Taxpayers are all owed to permanently exclude certain types of income from gross income or defer certain types of income from taxation (gross income) until a subsequent tax year. Consequently, taxpayers are not required to include all realized income in gross income. All el se being equal, should taxpayers prefer to exclude income or defer it? Why? - answer✔✔Taxpayers should prefer to exclude income rather than defer income. When they exclude income they are never taxed on the income. When they defer income, they are still ta xed on the income, but they are taxed in a subsequent tax year Why should a taxpayer be interested in the character of income received? - answer✔✔A taxpayer should be interested in the character of income received because the character of the income determ ines how the income is treated for tax purposes (including the rate at which the income is taxed). For example, ordinary income is taxed at the rates provided in the tax rate schedule. Qualified dividend income and long -term capital gains (after a netting process) are generally taxed at a maximum 15% rate (20% in the case of high income taxpayers). Is it easier to describe what a capital asset is or what it is not? Explain. - answer✔✔It is easier to describe what a capital asset is not. In general, a capita l asset is any asset other than: • Accounts receivable from the sale of goods or services. • Inventory and other assets held for sale in the ordinary course of business. EXAM STUDY MATERIALS July 30, 2024 11:26 AM • Assets used in a trade or business, including supplies. Thus, any asset used for investment or personal purposes is considered to be a capital asset. Are all capital gains (gains on the sale or disposition of capital assets) taxed at the same rate? Explain. - answer✔✔No. If a taxpayer holds a capital asset for a year or less the gain is taxed at ordinary tax rates. If the taxpayer holds the asset for more than a year before selling, the gain is generally taxed at a maximum 15% rate but could be taxed as high as 20% for high income taxpayers. If the taxpayer sell s more than one capital asset during the year and recognizes both capital gains and capital losses, the gains and losses are netted together before determining the applicable tax rate. Are taxpayers allowed to deduct net capital losses (capital losses in e xcess of capital gains)? Explain. - answer✔✔In general, a taxpayer is allowed to deduct, as a "for AGI deduction," up to $3,000 of net capital loss against ordinary income. If the net capital loss exceeds $3,000, the taxpayer is allowed to carry the loss o ver indefinitely to deduct in subsequent years (subject to the $3,000 annual deduction limitation). If however, a capital loss arises from the sale of a personal use asset (such as a personal automobile or a personal residence), the loss is not deductible. Compare and contrast for and from AGI deductions. Why are for AGI deductions likely more valuable to taxpayers than from AGI deductions? - answer✔✔All deductions are classified as either "for AGI" or "from AGI" deductions. Gross income minus "for AGI dedu ctions" equals AGI. AGI minus "from AGI deductions" equals taxable income. "For AGI deductions" are often referred to as deductions above the line, while deductions from AGI are referred to as deductions below the line. The line is AGI (the last line on th e front page of the individual tax return). Though both types of deductions may reduce a taxpayer's taxable income, "for AGI" deductions are generally more valuable to taxpayers because they reduce AGI which may allow taxpayers to deduct more of their fro m AGI deductions (and other tax benefits) that are subject to AGI limitations. "From AGI deductions" don't affect AGI. What is the difference between gross income and adjusted gross income, and what is the difference between adjusted gross income and taxab le income? - answer✔✔Gross income is more inclusive than is adjusted gross income (AGI). Gross income is all income from whatever source derived that is not excluded or deferred from income. AGI is gross income minus "for AGI" deductions. So the primary di fference between gross income and AGI is the amount of "for AGI deductions." Adjusted gross income is more inclusive than taxable income. AGI is gross income minus "for AGI" deductions. Taxable income is AGI minus "from AGI" deductions. Consequently, the d ifference between AGI and taxable income is the amount of "from AGI" deductions. How do taxpayers determine whether they should deduct their itemized deductions or utilize the standard deduction? - answer✔✔Taxpayers generally deduct the greater of (1) the applicable EXAM STUDY MATERIALS July 30, 2024 11:26 AM standard deduction or (2) their total itemized deductions, after limitations. However, taxpayers that do not want to bother with tracking itemized deductions may choose to deduct the standard deduction, even when itemized deductions may exceed t he standard deduction. Why are some deductions called "above -the-line" deductions and others are called "below -the-
line" deductions? What is the "line"? - answer✔✔The line is adjusted gross income (AGI). AGI is considered the line because of the significan ce it plays in the amount of deductions allowed from AGI. "For AGI" deductions are called above -the-line deductions because they are deducted in determining AGI. "From AGI" deductions are called below -the-line deductions because they are deducted after AGI has been determined. They are deducted from AGI to arrive at taxable income. Below -the-line deductions may be subject to limitations based on the taxpayer's AGI. What is the difference between a tax deduction and a tax credit? Is one more beneficial than the other? Explain. - answer✔✔A deduction generally reduces taxable income dollar for dollar (although from AGI deductions may not reduce taxable income dollar for dollar). This translates into a tax savings in the amount of the deduction times the margina l tax rate. In contrast, credits reduce a taxpayer's taxes payable dollar for dollar. Thus, generally speaking, credits are more valuable than deductions. What types of federal income -based taxes, other than the regular income tax, might taxpayers be requi red to pay? In general terms, what is the tax base for each of these other taxes on income? - answer✔✔In addition to the individual income tax, individuals may also be required to pay other income based taxes such as the alternative minimum tax (AMT) or se lf-employment taxes. These taxes are imposed on a tax base other than the individual's taxable income. The AMT tax base is alternative minimum taxable income, which is the taxpayer's taxable income adjusted for certain items to more closely reflect the tax payer's economic income than does taxable income. The tax base for self -employment taxes is the net earnings derived from self -employment activities. Identify three ways taxpayers can pay their income taxes to the government. - answer✔✔Taxpayers can pay ta xes through (1) income taxes withheld from the taxpayer's salary or wages by her employer, (2) estimated tax payments directly to the government, and (3) taxes the taxpayer overpaid in the previous year that the taxpayer elects to apply as an estimated payment for the current year. If a person is considered to be a qualifying child or qualifying relative of a taxpayer, is the taxpayer automatically entitled to claim a dependency exemption for the person? - answer✔✔No, taxpayers may claim a dependency exempt ion for a qualifying child and/or a qualifying relative only if the qualifying child or relative is a citizen of the United States or a resident of the United States, Canada, or Mexico. Further, the qualifying child or qualifying relative must meet the joi nt tax return test if the person is married (no joint return with spouse unless there is no tax liability (positive taxable income) on the joint return and there would have been no tax liability on either separate tax return if the spouses had filed separa tely).
line" deductions? What is the "line"? - answer✔✔The line is adjusted gross income (AGI). AGI is considered the line because of the significan ce it plays in the amount of deductions allowed from AGI. "For AGI" deductions are called above -the-line deductions because they are deducted in determining AGI. "From AGI" deductions are called below -the-line deductions because they are deducted after AGI has been determined. They are deducted from AGI to arrive at taxable income. Below -the-line deductions may be subject to limitations based on the taxpayer's AGI. What is the difference between a tax deduction and a tax credit? Is one more beneficial than the other? Explain. - answer✔✔A deduction generally reduces taxable income dollar for dollar (although from AGI deductions may not reduce taxable income dollar for dollar). This translates into a tax savings in the amount of the deduction times the margina l tax rate. In contrast, credits reduce a taxpayer's taxes payable dollar for dollar. Thus, generally speaking, credits are more valuable than deductions. What types of federal income -based taxes, other than the regular income tax, might taxpayers be requi red to pay? In general terms, what is the tax base for each of these other taxes on income? - answer✔✔In addition to the individual income tax, individuals may also be required to pay other income based taxes such as the alternative minimum tax (AMT) or se lf-employment taxes. These taxes are imposed on a tax base other than the individual's taxable income. The AMT tax base is alternative minimum taxable income, which is the taxpayer's taxable income adjusted for certain items to more closely reflect the tax payer's economic income than does taxable income. The tax base for self -employment taxes is the net earnings derived from self -employment activities. Identify three ways taxpayers can pay their income taxes to the government. - answer✔✔Taxpayers can pay ta xes through (1) income taxes withheld from the taxpayer's salary or wages by her employer, (2) estimated tax payments directly to the government, and (3) taxes the taxpayer overpaid in the previous year that the taxpayer elects to apply as an estimated payment for the current year. If a person is considered to be a qualifying child or qualifying relative of a taxpayer, is the taxpayer automatically entitled to claim a dependency exemption for the person? - answer✔✔No, taxpayers may claim a dependency exempt ion for a qualifying child and/or a qualifying relative only if the qualifying child or relative is a citizen of the United States or a resident of the United States, Canada, or Mexico. Further, the qualifying child or qualifying relative must meet the joi nt tax return test if the person is married (no joint return with spouse unless there is no tax liability (positive taxable income) on the joint return and there would have been no tax liability on either separate tax return if the spouses had filed separa tely).
